New Oriental Education & Technology Group Inc (EDU) 2009 Q1 法說會逐字稿

Good evening, and thank you for standing by for New Oriental's first fiscal quarter 2009 earnings conference call.

At this time, all participants are in listen-only mode.

After management's prepared remarks, there will be a question and answer session.

Today's conference is being recorded.

If you have any objections, you may disconnect at this time.

I would now like to turn the meeting over to your host for today's conference, Miss.

Sisi Zhao, New Oriental's Senior Investor Relations Manager.

Hello, everyone, and welcome to New Oriental's first fiscal quarter 2009 earnings conference call.

Our first fiscal quarter earnings results were released earlier today and are available on the Company's website as well as on newswire services.

Today, you will hear from Michael Yu, our Chief Executive Officer and, Louis Hsieh, our Chief Financial Officer.

After prepared remarks, management will be available to answer your questions.

Before we continue, please note that the discussion today will contain forward-looking statements made under the Safe Harbor provisions of the US Private Securities Litigation Reform Act of 1995.

Forward-looking statements involve inherent risks and uncertainties.

As such, our results may be materially different from the view expressed today.

A number of potential risks and uncertainties are outlined in our public filings with the SEC.

New Oriental does not undertake any obligation to update any forward-looking statements, except as required under applicable law.

As a reminder, this conference is being recorded.

In addition, a webcast of this conference call will be available on New Oriental's investor relations website at http://investor.neworiental.org.

I will now turn the call over to New Oriental's CEO, Michael Yu.

Michael, please.

Thank you, Sisi.

Good morning and good evening to everyone on the call.

Nice to have you guys here again, and thank you for joining us today.

As you have seen, we've delivered strong results in our first fiscal quarter of 2009, exceeding the high end of our revenue guidance by over $8.7m.

These results were driven by a high growth in language training and overseas test preparations enrolment.

In particular, our Pop Kids English and overseas test preparations programs performed well, with the enrolments increasing by over 55% and 24% respectively.

As many of you know, the first quarter is seasonably our strongest, with school-age students taking advantage of the two-month summer holidays to enroll in New Oriental classes.

This year, even with the Beijing Olympics in August, our business results were strong as our Beijing school were able to remain open during the games and most students who were attending the games, or who left Beijing to avoid the Olympic period, chose to defer course start dates -- defer course start dates instead of forego -- foregoing classes.

As a result, the event did not have a materially significant impact on our enrolments.

We believe that this phenomenon demonstrates the importance placed on education in China and the effectiveness of the courses we offer.

During the first quarter we continued to expand our [physical] network.

The total number of schools and learning centers increased by 15 to 222 in first quarter; up from 207 as of May 31, 2008.

We opened two new schools this quarter, one in Qingdao and one in Xiamen, to bring the total number of schools to 43 up from 41 as of May 31, 2008.

Also in this quarter the number of learning centers increased by 13 to 179; up from 166 as of May 31, 2009 (sic - see press release).

We closed the acquisition of Mingshitang gaokao, an issue I will discuss further, and we consolidated our two private boarding schools in Yangzhou and Taixing to one campus in Yangzhou.

In summary, adding two new schools and a net of 13 learning centers in several large cities, we now have a total of 222 number of schools and learning centers spreading 38 cities.

I'm also happy to announce that the U-Can all-subjects training program, which we launched in the third quarter of 2008, had approximately 15,000 enrolments in this quarter.

Demand for all-subjects training in China is high as kids are under tremendous pressure to obtain high scores on the gaokao, Chinese college entrance examination.

Our U-Can program, which helps students begin preparing for this examination at a young age, offers an attractive proposition.

We believe enrolments in the U-Can program will continue to rise as students who are familiar with our culture and teaching style, and parents who trust our strong brand name, come to us and stay with us year after year.

We have already rolled out the U-Can program in 25 cities in China, and our target is over 30 cities by the end of our fiscal year next May.

I'm pleased to tell you that during the first quarter we completed the acquisition of Mingshitang, a private school specializing in tutoring gaokao retakers.

During this quarter, the school had more than 2,500 enrolments for this year's class, almost 100 -- almost 1,100 boarding students and another 1,600 for short-term training, up from 800 in the third quarter, when we announced our plans to acquire a stake in the school.

Our other traditional business lines, such as Online Education through koolearn.com, Book Stores and the International Consulting, also contributed to growth in the first quarter, driven by high summer enrolments during our peak season.

We continue to see tremendous growth opportunities ahead in China's private education market.

And our hub and spoke business model allows us to leverage our on-the-ground network of teachers and administrators as we expand our network throughout China.

This scalability is especially evident as we diversify our offerings and move into all-subject training and domestic test preparations.

And as New Oriental provides an even more diverse and comprehensive set of course offerings, we will continue to build on our position as the destination of choice for supplemental education in China.

As New Oriental prepares to celebrate the fifteenth anniversary of our founding on November 12, 2009 (sic - see press release), we have a lot of people to thank, including the over 6m students who have enrolled in our course -- in our courses, the thousands of current and former New Oriental teachers and staff and a supportive community of analysts and investors.

We are pleased and grateful for our past success, but we believe the future of New Oriental will be even brighter.

With that, I will hand the call over to Louis Hsieh, our CFO, who will take you through the financial results for the quarter.

Hi, Louis.

Thank you, Michael.

Hello to everyone and thank you for joining us today.

Before I begin, I want to elaborate on the point Michael made about the 2008 Beijing Olympic Games.

As we reported last quarter, we expected that the games, which took place between August 8 and August 24, would negatively impact our business.

This was due to transportation and security logistics arrangements in Beijing and potential distraction from classes as the nation tuned in to the games.

Despite the strong growth we achieved in the quarter, we estimate that the Beijing Olympics negatively impacted our net revenue growth by approximately $4m, with the largest impact in Beijing, where revenues for the summer quarter grew only 12.4% year over year in renminbi terms, as compared to 25.4% in the previous annual growth rate.

In addition, because of enhanced security controls around the Beijing Olympics, our Shijiazhuang school closed for about two months, from July 28 to September 20, resulting in a negative revenue impact of $0.4m for the quarter.

Furthermore, we incurred significant additional marketing and logistics expenses related to the Olympic Games.

Despite the adverse impact to our business from the Olympic Games, we are pleased to report strong top line year-over-year growth of 46.8%, to over $118m.

We expect to recoup a significant portion of the estimated $4m in lost revenue attributable to the Beijing Olympics in subsequent quarters.

Now I will walk you through the contributors to our first fiscal quarter results and some financial highlights.

Please note that certain figures I will talk about are non-GAAP, including all measures that are given excluding share-based compensation expense.

You can find the reconciliation of these figures in the finance tables at the end of the press release.

Those of you who follow our Company closely understand the growth of our business is best evaluated by monitoring growth in four key measures.

First, student enrolment growth.

Second, net revenue, which encompasses ASP or -- increases.

Third, non-GAAP operating income growth.

And, fourth, our free cash flow growth.

Today, I will focus on some of the factors affecting these key metrics.

As you have seen, in the first fiscal quarter 2009, our total net revenues increased by 46.8% year over year to $118.3m, from $80.6m in the first quarter fiscal year 2008.

Revenues from our education programs and services, comprising our language training and test preparation courses as well as primary and secondary education programs, rose 46.1% year over year as new student enrolments in language training and test preparation courses continued to surge.

Total student enrolments in language training and test preparation courses in the first quarter -- fiscal quarter of 2009 increased by 23.8% year over year to approximately 545,400, from approximately 440,500 in the first quarter of fiscal year 2008.

We also saw increased revenue from books and other education materials and services, which rose 58.4% from the year-ago period to $7m.

Excluding share-based compensation expense, or non-GAAP, operating costs and expenses for the quarter were 40 -- $65.5m; a 50.6% increase year over year.

Total operating costs and expenses for the quarter were $69.4m; a 53.6% increase year over year.

Cost of revenues increased by 50.6% year over year to $38.5m, primarily due to the enhanced course offerings and the greater number of schools and learning centers in operation.

Selling and marketing expenses increased by 61.8% year over year to $9.9m, primarily due to additional brand promotion expenses during the Olympic Games.

General and administrative expenses were $21.1m, a 55.6% increase from the same period last year, mainly as a result of increased headcount as the Company expanded its network of schools and learning centers.

Total share-based compensation expense for the quarter rose to $3.9m from $1.7m in the year-ago period.

Of this amount, approximately $230,000 was recognized as cost of revenue, $62,000 was recognized as sales and marketing expense and $3.6m in general and administrative expenses.

Income from operations excluding share-based compensation expense, or non-GAAP, for the quarter was $52.7m, a 42.3% increase, from $37.1m in the year-ago period.

And income from operations for the quarter [rose] $48.9m, a 38% increase from $35.4m in the year-ago period.

Excluding share-based compensation expense, a non-GAAP measure, operating margin for the quarter would have been 44.6% compared to 46% in the corresponding period of the prior year.

Operating margin for the quarter was 41.3% compared to 43.9% in the year-ago period.

This decrease is primarily due to several factors.

First, as we have discussed in previous quarters, the short-term language training and test prep markets are moving to smaller class sizes, especially kids' programs.

This is because, as discretionary income increases in Chinese households, students are willing to pay higher course fees for the individualized attention that smaller classes can offer.

This market trend was especially pronounced in our Q1 '09, where average class size for short-term language training and test prep courses was approximately 40 students per class, down from approximately 60 students per class in the year-ago period.

Smaller classes are marginally less profitable, on average, than larger classes, but they still remain profitable -- very profitable overall.

While we expect to -- the trend to continue toward smaller class sizes, we also believe the rate of decrease in class sizes will abate in the quarters ahead.

The second factor affecting our operating margin is the -- in the first quarter was the Beijing Olympic Games, which have already been discussed.

The third factor affecting margins this quarter was investment in new businesses, particularly in the U-Can all-subjects training, Mingshitang and other gaokao retaker schools, New Oriental Star kindergarten, the bilingual private kindergarten business, and North Star, our CPA, bar and civil service exam prep school.

Although these new business units were unprofitable in the quarter, we expect these businesses to grow rapidly and contribute meaningful -- meaningfully to New Oriental's profitability in the years to come.

The fourth factor affecting our Q1 margins was an increase in share-based compensation expense, which rose to $3.9m from $1.7m in the year-ago period.

I -- we expect share-based compensation expense to remain high in the coming two fiscal quarters before abating in subsequent quarters.

Share-based compensation should be slightly over $4m in the second quarter of fiscal year 2009.

And the fifth and final factor is provision for income taxes, which increased to $6.2m from $3.3m in the year-ago period, due to increased tax rates in some of our locations, as mandated by current PRC tax law.

Net operating cash flow for the first quarter -- fiscal quarter 2009 was $41.8m.

On the bottom line, net income, excluding share-based compensation expense, non-GAAP, increased by 37.9% year over year to $48.8m.

And net income for the quarter increased by 33.2% year over year to $44.9m from $33.7m in the first quarter of fiscal year 2008.

Excluding share-based compensation expense, basic and diluted earnings per ADS were $1.31 and $1.27 respectively.

Basic and diluted earnings per ADS were $1.21 and $1.17 respectively for GAAP measures.

Each ADS represents four common shares.

Basic and diluted earnings per common share amounted to $0.30 and $0.29 respectively.

Capital expenditures for the quarter were $5.5m, which was particularly -- which was primarily used to add the two new schools and 13 new learning centers during the quarter and for the remodeling and maintenance costs for existing facilities.

Moving to our balance sheet, our total cash and cash equivalents as of August 31, 2009 (sic - see press release) were $196.9m.

In addition, we had $68.9m in term deposits at the end of the quarter.

The deferred revenue balance, made up of cash collected from registered students to be recognized proportionately as revenues on -- as the instructions are delivered, at the end of the quarter was $42.6m; an increase of 59.7% as compared to $26.6m at the end of the first quarter of 2008.

I will now read you New Oriental's financial guidance for the second fiscal quarter 2009.

Please note that the following outlook statements are based on the current expectation.

These statements are forward-looking.

Actual results may materially differ.

New Oriental expects its total net revenues at the second quarter of fiscal year 2009, September 1, 2008 to November 30, 2008, to be in the range of $46m to $48m, representing year-over-year growth in the range of 43.1% to 49.3% respectively.

This forecast reflects New Oriental's current and preliminary view, which is subject to change.

In contrast to the first fiscal quarter, the second fiscal quarter is typically New Oriental's slowest quarter in terms of student enrolment and revenues, as Chinese students go back to full-time school, thus, leaving less time for supplemental studies and test preparation.

Now, I'll turn the -- hand over -- excuse me.

Now, I'll hand the call back to Michael for his final thoughts.

Michael.

Thank you, Louis.

Well, I would like to conclude with our thoughts on the macro environment.

New Oriental has not yet been materially adversely impacted by the global credit crisis, the global economic slowdown or the economic slowdown in China.

Considering that food, housing and education are the top three categories for disposable consumer spending in China, and the paramount priority that Chinese families place on the education of their often only one child, we believe the education sector is one of the last areas to be affected when people begin to conserve their discretionary income in an economic downturn.

And given our leading reputation in China's education market, families will continue to recognize that the value their children gain from education far exceeds the dollar spend on New Oriental courses.

So with our strong positioning as the first choice for helping students get ahead in life, we are confident that New Oriental will continue to see strong growth in the months and years ahead.

Once again, thank you for participating in our quarterly earnings conference call.

And, at this point, we are glad to take your questions.

In order to be fair to all callers who wish to ask questions, we will take one question at a time from each caller.

If you have more than one question, please request to join the question queue again after your first question has been addressed.

Please stand by for your first question.

And our first question comes from the line of Adele Mao of Susquehanna International.

You may proceed.

Hi.

Good morning.

My question is related to the gaokao retake business.

Obviously, Mingshitang enrolment has ramped up very well over the past quarter.

There appear to be some changes related to gaokao coming in China over the next couple of years.

How do you view this -- these changes will impact the gaokao retake trends in light of the policy changes over the next couple of years, whether you see this as an opportunity to further get into acquisitions in different areas?

Thank you.

There are mainly two changes in gaokao area in the next several years.

One is that the evaluation system is now going to change.

People -- our government says that, for the next few years, they are not going to only take only one gaokao as their evaluation system.

Also, they would have to take the students' average scores in their schools and other factors into account.

But this change will not affect the business because mainly the gaokao examinations, that is, the college entrance examinations, will still take I think 80% of the account like being in the student enrolments.

So the gaokao, that is, college entrance examination, will be still very important in students' enrolment into good universities.

The other is good for us, actually.

The policy is that the government has repeatedly said that all of the public high schools, they cannot use students' leisure time or weekend to ask students to stay in school to take more courses.

That means the students, they will -- their time will be freed out in the evening or during the weekend.

But students are free to take other private training schools.

So like in [Zhangdong] province this year, we can see there are more and more high-school students coming to our school because the provincial government strictly doing that policy.

They tell students -- they tell schools they -- the schools are not allowed to give students lectures or courses during the weekend.

So during the weekend the students come to New Oriental.

So it's mainly there are these two changes here.

I think the first change is not bad, although it's not so advantageous to New Oriental.

But the second is really good at New Oriental.

So I look upon gaokao as a good business like in future time.

But, still, there are so many students, at least like about 50 -- around 50 students, high-school students will not have any chance to go through university to study every year.

And the strangest thing is there some of them who also getting enrolled by universities, but the universities are not important universities, we say, famous universities in China.

They quit going to university and they stay in gaokao school to study for another one year so that they will have a good chance to go to famous universities.

Louis, do you have anything?

Yes.

[Just with the White River] -- the content (inaudible).

Yes.

The content of it doesn't affect us much.

I know that.

Okay, so I -- have I answered your question?

Yes, yes, very detailed, thank you.

Just related to that, with 2,700 student enrolments in gaokao retake right now, what's your revenue expectation for this year and if there's a goal you want to reach over the next 12 months, I guess in the next school year, fiscal 2010?

Yes, Adele, of the 2,700, 1,100 are really -- approximately 1,100 are really full-time boarding students.

The other 1,600 are )spoken in Chinese), or short-term students, just like U-Can students.

So really our total enrolments for U-Can are about 15,500 for the quarter, or (inaudible).

As far as revenue for Mingshitang, we haven't disclosed that separately yet, because we only own 60% of the company, so I -- we haven't disclosed that publicly yet.

Yes, we have -- three places have gaokao school now.

One is in Beijing, the other is in Changchun, Jilin province and the other is in [Tsinan] province.

And so all these schools are running pretty good these days and there are [still] new students coming to these schools.

And mostly when we enroll students for gaokao schools, then they stay here for almost one year until next year, when -- after they take the final college entrance examination.

In these three cities we are doing -- I think we are doing pretty well.

And in (inaudible) school, we also have (inaudible), right?

Well, we will in the spring.

Yes.

Because the art students don't come in until the spring.

That's an almost nearly.

Plus, nowadays it's almost 1,600 or over 1,600.

We have one-year students and half-year students.

Right, combined.

Right, combined, yes.

So we are doing pretty good but, well, just like Louis said, we are not going to disclose [like] Mingshitang's revenue, because there are other people [stake] there.

They have their (inaudible).

The other thing is, Adele, is they're also going to be recruiting students in short-term training, just like U-Can does.

And so the revenue's actually -- it's changing every quarter.

Yes.

Week by week, actually.

So there's a lot about Mingshitang that we -- because it's a private company, that we're not -- we only own 60%.

We're not authorized to disclose yet.

Okay.

That's good to know.

I'll get back to the end of the line for additional questions.

Thank you.

Thank you.

Our next question comes from the line of Catherine Leung of Citigroup.

Please proceed.

Hi.

Good evening, and congratulations on another very strong quarter.

My question is on the margins.

Can you please update us on the margin outlook for the remainder of the year?

And, related to this, could you please quantify for us the impact from the incremental costs related to the Olympics and the investments in the new initiatives?

Thank you.

Okay.

Thanks, Catherine.

That's a very good question.

I think on the margin question, even the class size, the dramatic fall in class size on average, even surprised us.

So I think our net -- our gross margins were down about 0.8% to 67.5%.

I think at this point, we are going to revise our margin guidance to probably flat gross margins year over year.

We're still going to shoot for a 100 basis point improvement in gross margins.

And we'll -- and we would like to -- we were hoping to hold or slightly improve the non-GAAP EBIT margins.

The margins below that are going to be impacted by a higher tax rate and also by the fact of the stock-based compensation, as well as lower interest income from the deposits we have, as interest rates have started to fall as about a year ago today -- at this time.

So I think those margins then distort -- will -- they negatively impact our net margins.

So that's why we asked the analysts and investors to look at the true measure, which would be non-GAAP operating margins for us.

Yes.

That's a more realistic expectation of our profitability.

As far as quantifying the effects of the summer, you -- the revenue impact you have at about $4m.

The cost impact -- it's hard to break out separately the cost items, but it's safe to say that the additional cost of the Beijing Olympics is probably north of CNY10m in additional expenses.

For the Olympics?

And --

Yes.

-- I know you can't disclose the Mingshitang, but the incremental costs for the new initiatives, the investments?

Well --

For example, in headcount or marketing costs for U-Can.

Yes, the U-Can is not broken out separately, but U-Can also will be over $1m.

U-Can has about 340 teachers now and also -- so -- and the average class size is about 30, so it's still -- it's losing money.

But because it's part of the integral schools, it can't -- all the costs can't be broken out completely separately, just -- the classroom rentals, etc.

So it's not -- we don't have that.

But, in general, U-Can is losing money.

The bilingual kindergartens are still losing money.

Mingshitang actually lost money for the quarter but it will make money the next three quarters, because it incurred a large marketing expense during the summer to recruit students and it's -- and the students will start classes in September, so it actually come into revenue and profitability in Q2, Q3 and Q4.

So it's very counter-seasonal to our current business.

And so Mingshitang had a negative impact on net income of over $0.5m for the quarter, but it will make it up in the next few quarters.

The other ones, we don't break them out separately as far as the kindergarten.

And Northstar and the kindergartens have also lost money through the quarter.

I see, thank you.

Okay.

Thanks, Catherine.

Our next question comes from the line of Scott Schneeberger of Oppenheimer.

Please proceed.

Thanks, good evening.

I guess a question I would like to ask looking forward is what type of robustness do you anticipate in pricing?

Obviously, we've seen a little bit of slowdown in the economy.

A somewhat insulated environment, though, that you operate in with education.

Do you see any pressure from that with regard to pricing, and do you think you will be able to continue to outpace it?

With the margin guidance it sounds like you think you should, but just a little more color on pricing.

Thanks.

I think pricing for the quarter, the average ASP in renminbi terms was up over 18%.

So it seems like we have been able to hold our pricing.

But part of that 18% is really due to the shift to smaller classes as we've been disclosing each quarter.

So in US dollar terms prices were up about 30% year over year.

We evaluate price every quarter, so we don't expect the prices to fall and we evaluate price increases each quarter.

But at this point, as Michael mentioned earlier, we don't expect any dramatic changes in our current pricing policy, for sure, on the down side and, most likely, we'll continue to raise prices for like to like about 10% to 12% a year.

Great, thanks.

And one more, if I could sneak it in.

Your capacity utilization of your new school build outs, could you elaborate a little bit on that and your opportunity there?

Thank you.

Our new schools are doing quite well.

The capacity -- it takes about three years to fill up a school, three to four years.

So we have plenty of capacity, certainly in the new schools.

And learning centers usually take at least two years to fill up.

So right now is we are not capacity constrained at all.

The reason we keep opening up learning centers is to get incremental revenue from families who don't want to travel too far to take their students to -- to take their kids to class.

So that's the main reason that we are opening up more learning centers.

The capacity has never been an issue.

The only time it's an issue is really during the summertime, and that's mostly in Beijing and Shanghai.

Yes, that's why we concentrate actually this year to open up many new learning centers, more than 60 actually for the whole year.

We have to go and prepare for the future.

What we think is that the parents don't want to take the kids too far away places.

They drive there and there is a traffic jam, so it takes too much time.

And another reason that our other language schools are opening up, and they have a lot of -- are lots of different schools in different areas.

So if you -- the longer they are there, then these schools will become the target for parents to chose, even if their teaching quality is not as high as New Oriental, but their location is convenient.

So that's why we have to open up so many new learning centers, even though we have to spend ahead of time lots of money.

We got to prepare for the next two to three years so that we will have a strong competitive position.

Great, thanks.

And 40 to 50 is still the plan for the area of new learning centers and school sites?

Yes.

Well, for the next year maybe another 40.

If only we had to.

Thanks so much, guys.

And the good thing is that every learning center is opening and the students are coming and we are training new teachers and new employees there.

That's why also we spend a lot of money on human resources here (inaudible).

But also training people to get experience that [opening] the learning centers, actually.

That's we have to -- in China we have called a [basic play] that (spoken in Chinese) something like that.

You have a place there then people will come.

If you don't have a place there, people will not come.

Thanks so much.

It's a US expression, if you build it, they will come.

Our next question comes from the line of Brandon Dobell with William Blair.

You may proceed.

Hi guys, thanks.

Hi, William.

A couple of quick questions for you.

If you look at the smaller class size trends, does that give you an opportunity to do -- reconfigure some of the learning centers in some of the schools and do more classes at the same time?

Or is it just you are still stuck with the same physical class sizes, physical class layouts, those kinds of things, at your facilities?

Well, one thing, Brandon, is that the number of big classes has not decreased.

It's actually increased.

It's just that the number of small classes are increasing faster and that's primarily due actually to Kids English.

So Kid's enrolment, as you saw in the quarter, increased 55% year over year.

So we had 97,000 Kids enrolment this quarter versus, I think, 62,000 the year before.

And Kids classes have a maximum of 25 students.

So it's not like we are reconfiguring old schools.

They still -- we still need the big classrooms.

Because oversees enrolment and (inaudible) still we are way up.

So those classes remain intact.

But the newer learning centers are having more smaller classes, as you would expect, as we follow the market trend.

Okay, thanks.

On the teacher side of the business, a couple of quarters ago we talked a lot about teachers' salaries and costs going up.

I would imagine you don't see those kind of pressures now with the economy.

As you go towards either more Kids classes or having a greater portion of smaller class sizes, is it a different kind of teacher?

Do you have a different opportunity or a different risk there with finding those teachers?

Or how do I think about the impact on your teacher training all those kind of things as those smaller class sizes ramp up?

Traditionally, we have two kinds of teachers which is the teaching for big classes.

Their salary (inaudible) per hour is higher than those teachers who are teaching smaller classes or in Kids English classes.

This is a New Oriental system here, but these two kinds of teacher they do not compare with each other.

Like our Kids English classes, so these teachers they get a monthly salary plus their hourly salary, which is very low.

But for big class teachers they only get an hourly salary.

They don't get any monthly salary, so that's different.

We don't have -- we don't actually have some pressure, great pressure on the teacher training side because we have a very good system of training teachers nowadays.

And also, even though the financial crisis will make people have lower expectations, but our teachers are still expecting they at least can maintain the same salary going forward.

So, normally speaking, that we are pretty normal here in teachers' training.

[Jo], you want to say?

If you think of the smaller class sizes in terms of Kids English driving it, well then the price you have to pay on salaries for Kids English teachers is significantly lower than the rest of our teachers.

I think that's the key point.

Yes, I think overall, Brandon, Kids English teachers are easier to find and train than the test prep teachers.

And so I think it actually bodes well for us that the Kids business is doing well.

And I want to make a point that the Kids English business is highly profitable.

It still has gross margins of 62 and a full class, over 67% [against] 25 students.

So we will continue to do this business.

It's highly profitable.

It is just not as profitable as the one teacher with 100 students in their overseas test prep class.

Okay.

I think for the quarter we added a net of 900 teachers in Q1 in our seasonally biggest quarter.

So we are still having success hiring teachers.

As Michael said, they actually get paid less than the overseas -- (multiple speakers).

Therefore, actually teaching costs have not been under significant pressure as they were in the February quarter last year.

Okay.

And then a final question.

As you look out the next six to 12 months, maybe you give us a sense of some of the milestones within gaokao that you are looking for?

We talked a little bit about the changes in the test going forward.

But as you try to measure your own progress is there -- working with the different centers to get those programs implemented, perhaps rolling out new subjects.

How should we think about that landscape, that horizon, the next six to 12 months for you?

What I think is we have an internal target of about 40,000 to 50,000 U-Can enrolments in the first fiscal year, starting June 1.

So we are already well on our way with 15,000 enrolments.

We another 1,600 from Mingshitang alone, and they will also contribute in the third and fourth quarter with additional short-term programs.

So I think we are on our way.

As Michael mentioned earlier, we plan to be in over 30 cities by the year end and over the next nine months or so.

And so progress remains good, but we will still lose money in that business the first year.

It takes us three years to build a business where it's scaling and highly profitable.

The program will become mature while we are gaining experience over this year.

And the students are actually believe in New Oriental because we have never opened like a math class or a physics class before.

But over this summer we had 1,600 students coming to our school.

And we hired some of our experienced high school teachers, and also we trained some of our own teachers.

So the teachers' training maybe is becoming mature.

So looking ahead, I think at the end of this fiscal year this program will become one of the strong points in New Oriental, one of the strong businesses in our New Oriental short training business.

And a final one for you, Louis, just a quick housekeeping question.

The foreign exchange rate that you guys used for the first quarter and Q2 guidance, and as well as the balance sheet for this quarter.

The one for the Q2 guidance as well as the income statement was CNY6.8594 to the US dollar.

And for the balance sheet, it was CNY6.8252 to the US dollar.

Okay, great.

Thanks, guys, appreciate it.

Only a little difference.

Our next question comes from the line of Mark Marostica of Pipe Jaffray.

You may proceed.

Thanks.

Going back to the comment, Michael, that you made in regards to the economic sensitivity of the business, which just given the demand for education in China should be modest, I would think.

But looking at the overall business from a geographic perspective, are there any regions or cities within China that you perhaps might argue are more economically sensitive than others?

And give us a sense of your exposure there.

Thanks.

Not really.

I think [geographically speaking] especially for education areas.

And we are going to actually -- another two new provinces next quarter, like Qingoao province and [Changchun] province, (inaudible) and [Xiamen] to open two new schools there actually.

Because even though there is some negative impact on Chinese economy, wholly speaking, people have -- Chinese people have the tradition of saving for 20 years times -- 20 years' salary as a deposit for their kids' education.

So most of the families in China, if they have kids, then they have saved enough money there regularly to spend for their kids, even though they are not making any new money here.

So they have enough money for their kids, usually speaking.

So the middle -- especially middle classes.

Yes.

And, Mark, and as Michael mentioned, we have not seen a slowdown yet.

The two worst performing schools in the last quarter was Beijing School and Shijiazhuang school, which happened to be in the same location as the Beijing Olympics, though the rest of the country performed exceptionally well.

Our Shijiazhuang school was closed for a whole month because that -- for the security reasons.

We complying with government policy.

Other than that, if you look across the regions that New Oriental was in, all regions reported very strong growth in all the schools, with the exception of those two, and those have a good reason.

Okay, great.

Thanks for the color.

And then, in regards to the tax rate, could you also give us some color on how the tax rate should behave in the quarters to come?

And then, tied to that, an update on your high-tech status application would be helpful.

Thanks.

Our tax rate we withheld at 12.3% for the quarter and we will do that for the rest of the year.

The high-tech or emerging market thing, we have several entities that have that.

And the new regulations have come out.

We will apply for them next year.

They run out in October of next year for now.

So I have no comment on whether we will or will not get it.

So from the standpoint of modeling purposes, we should be looking at a 12.3% tax rate for the duration of this year.

And then for next year, when you think about fiscal 2010, can you give us an idea, if you didn't get the high-tech approval what the tax rate would be?

It would be in the high teens.

Okay.

And do you know when you will find out?

We should find out at the end of this fiscal year so, hopefully, by May or June.

Okay.

All right, thank you.

Our next question comes from the line of James Mitchell with Goldman Sachs.

You may proceed.

Okay, thank you for taking my question.

Good results.

When I look at the guidance for revenue growth next quarter, you seem to guiding for a slightly faster rate of growth than you've historically guided for.

Should I read that as the $4m of foregone revenue around the Olympics just being delayed for three months?

I think it's -- most of that will actually come, James, in Q3 during the winter quarter.

Okay.

So the reason you --

The reason we are guiding higher is because we have been criticized for guiding low in the past.

So this is -- we are not holding really back this time, let's put it that way.

Okay?

So this is what we think we are going to do.

Okay.

We will do our best, actually.

Louis is putting lots of pressure on me, you know.

He wants me to have a good operation.

I just think in this kind of environment we should just guide what we think we are going to do.

We got tired of the headline saying New Oriental beats the street but guides for low consensus.

Yes, that's the most that I think we can do during this quarter, so this is a good number I think.

There is a sort of no holding back.

Yes, I think we were all tried of those headlines as well.

Thanks.

Thanks.

Our next question comes from the line of Chenyi Lu of Brean Murray Carret.

You may proceed.

I have a question regarding the -- a couple of questions regarding your acquisition strategy going forward.

Do you still focus on the gaokao area?

Thank you.

We will continue to look at gaokao.

I think that we've made two acquisitions in the space now and there are a lot of other sectors that are quite attractive.

So we will continue to integrate and learn from the gaokao area, use it as a spring board to grow our U-Can business, but then also be looking at other sectors as well.

I think, Chenyi, we're going to look at -- continue to look at gaokao schools, but we want to see how those two integrate first.

We are also looking at the same large competitors and large cities, and also we will continue to look at business lines that we are not in yet that we think are lucrative and will position New Oriental better for the future.

So we'll look -- it's the same.

We'll look at domain knowledge that we don't have, we'll look at large competitors in large cities and we'll continue to look at the gaokao area as a specific focus.

We are getting local knowledge from these two acquisitions.

And, actually, we are opening gaokao classes by our old schools which cost us less money, actually.

And then, regarding the selling expenses, I noted this quarter I don't understand why you spent a lot of money to promote the schools in Beijing.

I just want to get a feeling of what's going forward?

Do you still going to spend a higher level in a way that you also want to promote the gaokao area?

Yes, I think the marketing spending in the future will be focused on the newer businesses so it will be mostly in gaokao, and also in some tests that we want to gain market share in.

So like -- I also -- or other exams that we are being aggressive on currently.

But it will be less -- we don't spend a lot of money in marketing our current programs, the older programs.

Yes, we don't have to, actually.

Beijing school is in a very special period because of the Olympic Games.

We have to spend money all over China to tell people that we are still opening classes in Beijing, because everybody thinks that we have closed our school in Beijing during Olympics time.

So we spend about -- almost CNY8m to tell people all over China, have advertising in newspapers to tell them that we opening schools here.

So that's a very special period.

Mostly, for the next quarter and the winter quarter we are going to spend money on new businesses, so attract new students here.

So that means it will go back to a normal level that you guys can't sustain in the past, right?

Yes, that's -- somehow we expect that.

Also, Chenyi, some our new businesses spend a lot.

Mingshitang has spent a lot in advertising along with us that they are part of New Oriental now.

And that's why you saw the direct benefit of enrolment in the boarding school growing from 790 a year ago to 1,100.

And then also the 1,600 short-term training students they never got before.

And then the one last question is do you still -- during the last conference call you said that you expect for U-Can to achieve about $5m in 2009.

And is that still the case?

Yes, that's the case, because the 15,000 enrolments that came in in this first quarter, the average ASP is $122.

So already we are $17m -- sorry, we are already well on our way to -- if we hit 50,000 students at that $122, we will be over $6m in revenue.

Great, thank you.

That's all my questions.

Thank you.

Our next question comes from the line of Marisa Ho with Credit Suisse.

You may proceed.

Hello.

Looking at your --

Hello, Marisa.

Yes, hello.

Looking at the deferred revenue you had at the end of the first quarter, the 42 and -- the $42.6m, it looks like this is a disproportionately higher number compared to what we've seen in previous years.

Is this mainly because that some of the parents in [Shichuan] decided not to put the kids in through the summer school, and they are now deferring to the winter term, or is it because of any disruption from the Olympics and similar types of deferral?

And a related question is when you say that you are expecting to largely recapture the $4m loss revenue in Beijing, have you actually collected these in terms of enrolments, or are you just expecting that these parents will come back at some future point?

The first question on deferred revenue, Marisa, deferred revenue will grow each year at this time because Yangzhou school is increasing their enrolment.

So we collect a lot of money because the students will pay for four months in advance.

So that's part of the build up.

The second part is also, as you said, is that due to the Olympic Games and the Shijiazhuang school closing, some of those students have deferred into Q2 and into Q3.

And as far as the Beijing issue regarding the $4m, we have seen a pick up in Beijing in the first -- in this quarter, and we believe that will continue into Q3.

If you look at our growth rate for the quarter, it's impressive at 47% almost.

But down from the last two quarters where we grew, I think, it was 52% and 62% respectively.

So the trend actually went down and there is no reason it should have, other than the Olympic games itself.

Excellent.

Also have you -- is there any new guidance on your share-based compensation for the remainder of FY 2009?

I can give it now.

I think, as we expect the share-based compensation to be $4.1m in Q2 of '09, probably $4.2m or $4.3m in Q3 of '09.

That's partially due to the expected renminbi appreciation versus a year ago.

And then Q4 it should drop, so it should drop to around $4m to $3.9m or 4m.

And then the rest of it would depend on any share options that are granted next year in the next 12 months.

But we don't expect that amount to go up too much.

It should be around $3.5m to $4m going forward.

The '06 options will expire in January into Q3, so they will fall in the fourth quarter.

And then the '07 options will expire next year.

So we will grab some options, but they won't be at the level that they have been in the past.

So the share-based compensation as a percentage of revenue and as a percent of profit will begin to decline starting in Q4 this year.

Excellent, thanks very much.

(Operator Instructions).

Our next question comes from the line of Trace Urdan, Signal Hill.

You may proceed.

Okay, thank you.

Louis, I know you mentioned that you've not seen any effective economic slowdown.

I am wondering what you would -- how you think about each of the different lines of business, and whether you think any one area might be more or less sensitive to any kind of economic slowdown.

And then, maybe just as a follow up, I am wondering if you all know what percentage of your revenue comes directly from parents' savings versus from their current income, if you have a sense of that.

We don't have a sense of the second one at all.

But I think, as far as the first one, we don not see a slowdown in our business.

I think if there is a slowdown in China, where we'll first see it will be in the adult education area, so Adults' English.

I don't believe families, unless they absolutely have to, will skimp on their children's education and saving for their children's education.

(Multiple speakers).

And you can see that in the numbers, right?

Kids' enrolment still grew 55% and revenues grew 80%, over 80% again in the quarter.

So -- and overseas test prep, which is what you would expect to decline in [historic] (inaudible), those are big ticket items, and their children, if they are successful, are going to pay a lot.

Actually, the enrolments went up 24% and revenue up 56% year over year.

So in the areas that you would expect if there is -- especially like overseas test prep we saw not a decrease at all.

And that's despite Beijing being slow.

Beijing enrolments for overseas test prep were actually down year over year, and that was unusual.

But the overall enrolments were up 24%.

That's why we have confidence that Beijing will bounce back in Q3, especially during the winter.

Yes, okay.

Thank you.

(Inaudible) actually -- right.

[You mean more] expensive.

More is better.

Thank you.

At first I was afraid that the overseas studying preparation test will go down because of the financial crisis.

But, actually, the number of students are coming up.

Last week weekend there was an exhibition in connection -- they are giving an exhibition here in Beijing.

And more than 20,000 students who go there and apply for American undergraduate schools there, to visit those schools, and more than 600 universities all over the world are coming to China to enroll students, to find qualified students.

So, actually, there are more students who are trying to go abroad because of the financial crisis, because they think this is the best time to get off -- best opportunity to study, since the don't have any job here (inaudible).

But this is one area that I know, that one of my friends who is working in financial training areas, he said that his number of students is coming down because of the financial crisis because he perceives that there is not much job opportunities in the financial areas for the next two or three years.

Don't say that!

It's my area.

Your area, I know.

The enrolments in overseas test prep for the quarter were over 65,600, and that's up from 52,000 the year before.

So we have -- in the most highest ticket area, we are still seeing significant growth.

Great.

That's very helpful, thank you.

Thank you.

We are now approaching the end of the conference call.

I will now turn the call over to New Oriental's Chief Executive Officer, Michael Yu, for his closing remarks.

Okay.

Thanks to everybody for your nice questions.

And, anyway, we will try our best to make New Oriental a better Company, and make New Oriental a trustable Company.

And if you have any further questions, please do not hesitate to contact Louis or me, or our Senior Investor Relations Manager, Sisi Zhao.

Thank you.

Thanks a lot.

Thank you for your participation in today's conference.

This concludes the presentation you may now disconnect.

Have a great day.